GST and its impact on inflation

The passage of the Goods and Services Tax (GST) Constitution (Amendment) Bill in Rajya Sabha on Wednesday revived hopes in the Indian economy once again. Should the bill pass in the imminent winter session of Parliament, it will be a feather in the cap of the ruling government.

GST and inflation

As per a report by the international financial services group, Nomura, “The short-term impact of the GST could be mixed, but it will be big long-term positive. The GST would drive up headline consumer price index (CPI) inflation by 20-70 bps (one basis point is equivalent to 0.01%) in the first year.” It is an outlook that most foreign brokerages share at this point in time.

Another prominent foreign brokerage house, Morgan Stanley, maintains in its report that the implementation of the GST in the near term could bring some expansion in inflation. As per the estimates by this American firm, the impact on inflation can be in the range of 0.3-0.7% if the revenue neutral rate (RNR) is presumed to be 15%, with a lower rate of 12% for some items and a standard rate of 22% for others.

Even though the hope of GST’s arrival in the near future has brought extensive cheers in the country, the foremost apprehension that still exists for the analysts is related with its probable upshot on inflation.

Nevertheless, all such reports also argue that the surge in inflation, especially in CPI, would not last long. Once GST gets implemented in full spirits, the relevant infrastructure gets fully laid down and production streamlines inflation would come down in no time.

Refuting the views of the foreign brokerages, Sandip Sabharwal, an independent equity analyst, says, “GST’s impact on inflation will depend on the GST rate. An 18-19% rate will not be inflationary. The examples of countries where GST led to an inflation spike are fallacious comparisons to India given the inefficiencies and corruption that exist in India. Actually, an 18-19% rate will lead to lower inflation and higher growth.”

Sabharwal’s views coincide with that of Chief Economic Advisor Arvind Subramanian who had yesterday articulated that even if the GST rate is 18-20%, there would be no average impact on inflation. He explained that the end result in headline inflation will remain limited since a number of items will be kept outside the scope of GST. Finance Minister Arun Jaitley had also elaborated that 54% of items in CPI will be exempted from GST, while 32% will attract lower rates.

Nevertheless, the GST draft is still waiting to be prepared, and the final bill is still to pass the parliament and states. No one is familiar with what shape and structure the bill takes up to finish. Even the revenue neutral rate is indistinguishable for now.

But what is comprehensible is that the inflation (CPI) surged to 5.77% in June, close to the six percent inflation target set up by the Reserve Bank of India (RBI). Even if the GST impact on pushing up inflation remains short-term, as per most experts, the Indian economy may encounter some bumpy days further on.

Lastly, interest rates may stay put for a little longer, no matter who gets appointed as the next RBI Governor. So, don’t expect the Central Bank to change rates in its upcoming monetary policy review scheduled on August 9.

I am a business and finance journalist who is currently employed at Financial Express and previously at Zee News. My areas of interest include business and foreign policy. You can reach me on Twitter at @ashuvirgo1984 or @eFundsPlus.